Scheme For Sustainable Structuring Of Stressed Assets: Potential Multi-Bagger Theme For 2017

by: KR Capital


Corporate credit growth in the Indian economy has gone down to mid-single digits owing to high percentage of NPAs in Public Sector Banks.

RBI has come up with a new scheme called S4A to resolve both the NPA problems of the banks as well as the debt servicing problems of its borrowers.

Two sets of companies - public sector banks such as SBKJY, PNJZY and corporate borrowers such as GMQRY stand to benefit from the S4A scheme.

The Indian economy has been doing pretty well, with GDP growing at more than 7% Y-o-Y in 2015. The inflation has eased to lower levels and this has enabled the Reserve Bank of India (RBI) to lower interest rates. However, further growth in the economy is reliant on support from credit growth, which continues to remain in mid-single digits. This is because most banks, especially Public Sector banks ((PSBs)), are saddled with high percentage of bad loans or Non Performing Assets ((NPAs)) and are reluctant to provide corporate credit.

Gross ((NPAs)) have risen to around 5.59 lakh crore as of June 2016. Five sectors including textiles, telecom, power, infra and steel contribute 61% of the stressed assets in the banking sector in India.

The (RBI) has come up with a number of measures in the past like the Stressed Debt Restructuring and the 5/25 schemes to tackle this problem of stressed assets. These schemes have not been very successful and the problem remains. Therefore, (RBI) has now come up with a new scheme called Scheme for Sustainable Structuring of Stressed Assets ((S4A)).

((S4A)) allows banks to convert upto half the loans held by corporate borrowing companies into equity or convertible debentures. ((S4A)) is applicable only for borrowers with commercially operational projects and having outstanding loan of over 500 crore. A resolution panel set up by (RBI) and an Overseeing Committee, which in turn is set up by the Indian Banks Association (IBA), will divide the corporate debt into 2 parts. Part A will include debt which can be serviced from the existing operations while remaining will be classified as Part B. Part B will be available for conversion into equity or optionally convertible preference shares. However, in those cases where change in promoter does not happen, banks may also be allowed to convert a portion of Part B into optionally convertible debentures.

The treatment of Part B of the debt is similar to an equity swap as the payment to settle debt is in the form of shares of the debtors' stocks. The liquidity and solvency position of the borrower will not be affected as total assets remain unchanged. On the other hand, total liabilities will decline as the result of payment of debt while shareholders' equity will increase as a result of the issuance of the additional shares. Debt to equity ratio will improve because of the decrease in total liabilities. All these factors make it an interesting investment theme.

From an ((S4A)) investment theme perspective, the two things that are important to have are that firstly, the borrowers' loans must be breakable into sustainable and unsustainable parts, with the sustainable part being at least half the overall loan size. Secondly, the lenders must be able to ensure that the promoter's skin is still in the game post the implementation of the scheme as this is where ((S4A)) is expected to differ from previous schemes.

There are 2 set of companies which will benefit from ((S4A)). First, are the lenders, especially ((PSBs)). It has been observed that 70% market share of bad loans are with the public sector banks such as State Bank of India (OTCPK:SBKJY) and Punjab National Bank (OTC:PNJZY). Second are the borrowers which are metal, power and infrastructure companies such as GMR Infrastructure (OTC:GMQRY), Electrosteel Steels, Ankit Metal and Power Ltd, Rohit Ferro-Tech Ltd, IVRCL, Monnet Ispat and Energy, VISA Steel Ltd, Lanco Teesta Hydro Power Pvt. Ltd, Jyoti Structures Ltd, Alok Industries Ltd and Bhushan Steel are likely candidates for the ((S4A)) consideration.

It is believed that ((S4A)) will benefit both the lenders and the borrowers. It will strengthen the lenders' ability to deal with their stressed assets and also help restore the flow of credit to the backbone sectors of the economy, thus reducing the stress on corporate borrowers and reducing bad loans.

Hindustan Construction Company has already become the first company to benefit from this scheme and I expect more such core sector companies to follow suit.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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